Sharp rise in bond yields

Sequel to RBI announcing Rs 10,000-cr sale of govt bonds next week

With the decision to conduct sale of government securities through open market operations (OMOs), Reserve Bank of India (RBI) governor Raghuram Rajan has signaled the street that he is not going to  lower the guard on inflation. Just after a day of touching a one-year-low, government bond yields corrected on Thursday due to the OMO sale announcement.

On Tuesday, after market hours, RBI announced an OMO sale on Monday. As a sequel, the yield on the 10-year benchmark bond climbed up by six basis points to 4.47 per cent, the sharpest rise since August 5, when it had risen by 11 bps. The last time RBI sold bonds through OMOs was in July 2013. However, at that time the objective was to suck out liquidity and arrest volatility in the exchange rate.

“Traders were buying bonds in anticipation of softening in interest rates. RBI announced the OMO sale because they wanted to suck out excess liquidity, the other reason being continuity of their monetary signal,” said Ashutosh Khajuria, president (treasury), Federal Bank.

RBI does not support bond yields falling sharply. For, a sharp fall in these suggest expectations of lower interest rates. The way the 10-year bond yield was falling, the expectation was that it might drop to 8.3 per cent by the month-end.

Rajan left the repo rate unchanged at a fourth bimonthly review on September 30, at eight per cent.  Most economists believe it would remain so for the rest of the financial year, as the central bank aims to bring down CPI inflation to six per cent by January 2016. The latter had declined to 7.8 per cent in August from 7.96 per cent in July. The September data is expected to show more softening.

In recent days, the bond market saw a rally due to factors like softer Consumer Price Index (CPI) inflation data expected for September, expectations of a narrow trade deficit due to fall in global crude oil prices and slow growth of the Index of Industrial Production (IIP) fuelling hopes of a rate cut to boost growth. Other factors were Standard & Poor's revision of outlook on India’s sovereign rating to 'stable' from the earlier 'negative' and the recent International Monetary Fund projection that growth in India would pick up.

Due to expectations of a rate cut, traders had in fact resorted to buying bonds of over 10-year maturity. The preferred paper was the 8.6 per cent 2028 bond, which had been topping the trading volumes.

It is expected that government bond yields would see some more correction in the coming days. “RBI might conduct more of these OMO sales. Each time they do this, liquidity will be sucked out of the system and the impact will be felt by way of bond yields moving up,” said a senior treasury official of a foreign bank.